Lecture 3

Question 1

Formal vs Real control

Answer 1

Formal control:
- Family owner with a majority of the voting shares
-VC with explicit control rights

Real control:
-Minority owner who can persuade other owners of the need for intervention
-The extent to which a minority owner can persuade others depends on - (ease of communication and coalition building & similarity of interests)

Question 2

Proxy fights

Answer 2

In a proxy contest a shareholder with ‘real’ control who is unhappy with management seeks either election to the board or a change in corporate policy:
-Engage in a public campaign to change company policy
-Suggest an alternative set of board members
-Remove management

Question 3

Differentiate between prospective and retrospective information

Answer 3

Prospective information:
Information which ought to be collected before managerial decisions are implemented. Information which ought to be exploited to improve decision making.

Retrospective information:
information which has no bearing on future decisions

Question 4

Active and passive monitoring

Answer 4

Question 5

Role of entrant monitors

Answer 5

Role:
Ineffective monitoring by incumbents
- Collusion with management
-Career concerns of monitors. eg. long term shareholders may want to stick with their earlier assessment of the firm even when they observe a degradation

Wrong monitor:
-Monitor’s talent and adequacy may change with business environment

Liquidity needs:
-incumbent monitor may face liquidity shocks and have to sell their shares in the firm, making way for a new monitor

Question 6

Cost of Entrant Monitors

Answer 6

Coordination problems:
-Duplication of information among entrants / raiders

Lack of trust:
-Not enough time for development of trust between entrant monitor and insiders / managers
-New monitors can come in an renege on old promises to insiders

Limited investments by incumbents:
-If incumbent monitors know there is a chance that they will be replaced, then they may invest less in long-term projects

Question 7

Hedge fund activism

Answer 7

A strategy in which a hedge fund purchases a 5% or greater stake in a publicly traded firm with the stated intent of influencing firm policies

The 5% purchase triggers the filing of SEC schedule 13D, which reveals the identity of the buyer, the target firm, the stake in the company and the ‘purpose’ for the purchase

Target firms earn, on avg., 10.3% abnormal returns the period around the initial 13D filing

Dividends per share approximately double in the year following the initial stake

Question 8

Hedge fund activism typical demands

Answer 8

Payout of excess cash
Getting a board seat
Divestitures
CEO replacements
Preventing an ongoing merger, or force the firm to be takes over by another entity